ESG has a 3D impact in a 2D risk-return world: Margaret Franklin
Future of investment is a combination of AI plus HI - artificial intelligence plus human intelligence.
How is ESG as a trend catching up globally? Do investors focus more on returns or are they looking at ESG compliant companies per se?
The ESG trend is starting to accelerate. Europe has been at the forefront of it and the US has lagged generally, but that is changing. We could see that even in the last few months. There are probably several reasons for that. One, the climate change impact. It is becoming much more important as climate change has an impact on valuations. Long-term returns can be materially impacted by things that may change the nature as well as governance of assets. Traditionally, we have looked at the two-dimensional world of risk and return. ESG adds the impact of a third dimension.
How difficult or challenging is it to look for ESG compliance in emerging and frontier markets?
I still think it is being shaped in all markets including developing and developed markets. Part of the reason is the lack of standardisation. There are certain issues particularly with the “G” for governance, that have been around for a longer time. That comes up when we think about governance in combined CEO and chairman role -- whether the roles should stay combined or separated. These have been much discussed and are more deeply entrenched in the investment decision making process.
That template is starting to be applied to other parts -- the “S” (social) and the “E” (environmental). While in developed market, may be some more attention is paid to ESG because there the securities trade more, what is interesting is that these types of impact criteria that apply to developed markets are going to be applied equally everywhere.
What are the upcoming trends in global wealth management? How is the landscape changing with millennials entering the space?
The landscape for wealth management is changing not necessarily as a result of millennials but as a result of the conditions of the market. We have lower interest rates that we expect to persist longer, and that creates a particular context on the return side. We also have people living longer and so the requirement for those savings to go further is an important element.
Finally markets are complicated and while we want to ensure that there is basic financial literacy at the end of the day, people are going to have to rely on their advisors. When you think about those conditions, it creates an exciting opportunity for wealth management that requires better education, better ethics and better professional excellence on the providers. We have a social thread running through, where inequality is rampant and that is giving rise to certain social movements.
Capitalism at its core is being asked to re-imagine its purpose and that sparks incredible conversations. We are neutral. We do not advocate for certain outcomes because we do not have a commercial interest in it. But we have market participants from everywhere. We have a multi constituent stake-holder group and we end up hashing out stuff that turns out to be in the best interest of investor outcomes. Our lens is through the investor outcomes.
There is an increasing awareness that people need to manage wealth better. A lot of first-time investors are entering the system. How is the pattern emerging?
It is a pretty interesting time. Emerging investors are just starting out, and are at a very early stage of their savings. There are two aspects that are really important. One is social media. We are able to shape and influence the thinking of those early savers and investors through good messaging and online awareness.
The second aspect is technology and its impact on being able to deliver cost effectively and in a way that millennials are very comfortable with. Robo advice is still in its early days, which combined with artificial intelligence and big data, can dramatically change the outcomes that we can create even for those early savers with minimal dollars.
These early davers do not require the same kind of advice which is generally for those who have more complicated wealth situations and that generally comes with age, more assets and competing priorities. There is an amazing opportunity for technology to deliver effective product for early savers.
What is the future of investing with AI and big data?
We see AI, big data and machine learning will change certain trends. The first is activities that have been manual, error prone and not core competencies for us. Those can be automated and should be automated. AI and big data have the opportunity to improve the investment process by considering more inputs, being able to do deeper and better work. It does not preclude some sort of the human aspect of it.
We are in the 11th year of a bull market in the US. I do not think you have to have a cataclysmic correction, but you could see grinding mediocre returns.
We see it really as a world of AI plus HI - artificial intelligence plus human intelligence. The future of finance work looks at three very distinct aspects. The investment profession of the future, the investment firm of the future and investment professional of the future. That investment profession has much more inputs, complicated macro economic trends, polarity, sort of a multipolar world, geopolitical considerations, structural issues. technology and AI help us better manage that complexity.
At the end of the day, you cannot have an algorithm for relationships. So, specifically in the wealth management world, that creates an amazing opportunity for professionals who have superb foundational technical skills, who subscribe to lifelong learning and who subscribe to professional development all the way through. We recognise they must have very good soft skills, good listening skills, good communication skills that comes in parallel with outstanding work on behavioural finance. We think of behavioural finance as a soft subject but it is still a good technical skill to know what drives client behaviours and decision making and that should help us to improve. The good technical skills need to be complemented with soft skills.
Do you think passive investing will overtake active investing in future? What are your thoughts there?
Passive investing might be near 50% of total investing. Could it overtake active investing? For sure. There will probably be some natural settlement, though in terms of what should be passive and what should not be passive. There are a couple of drivers for passive investing and cost is one of them. It is considerably less expensive and that probably drives down all costs,
It is also a reflection of a burgeoning wealth management industry that is focussed more on asset allocation. There are areas where active management is really relevant. If we can think about basic building blocks and identifying where active management occurs and get it priced correctly for clients, suitable alpha can be generated. I do not think it will be one or the other. It will be a combination of the two.
What is the outlook for the investment industry at large? What are the trends and products that are getting popular?
The long-term outlook for the investment management industry is very strong. We have a growing population with savings. In the short term, there are some headwinds. There is the need for adjustment to technology and all its components -- AI, big data, machine learning and then just processing and that requires investment companies. The clients are becoming more demanding and they are asking for more things.The return environment is much more challenging than almost any time in my career.
If the US-China standoff continues and issues like these keep bothering the market, what does it mean for the world economy over the next year or two?
The Sino-American trade talks dominate the headlines. The theme of trade friction is everywhere. The world is starting to get a little more fractured and that will have an impact on the economy and we are also in the 11th year of a bull market in the US. I do not think you have to have a cataclysmic correction, but you could see grinding mediocre returns. So, we are going to have to work harder.
I do not know what the next high or outperforming asset class is going to be. In hindsight, I am always reminded that in 1995 you could have gotten a 7.5% return in a 100% bond portfolio. In 2005, you could have had 50% stocks, 50% bonds. If you looked at that same thing in 2015, it was just a kaleidoscope of asset classes and almost half of those were illiquid. So, it is going to be much more complicated portfolio construction and diversification is going to matter.
What are your thoughts on crypto currency in that case, in India it is banned so...
I have no speculation on any of it, but I do think that Distributed Ledger is going to be a game changer.
Could crypto currency be one of the emerging asset classes going ahead?
It could be, but it is early days yet and we have watched and feel it needs framing around it. The elements for making most asset classes legitimate and not speculative, is absent.